Note: Read Part I of this essay series here and read Part II here.
In Chapter 5 of Antitrust: The Case for Repeal, Dominick T. Armentano discusses antitrust policy toward vertical agreements such as price discrimination. Price discrimination is explicitly addressed in Section 2 of the Clayton Act (1914) and the Robinson-Patman Act (1936). Any kinds of restrictions on and prosecutions of price discrimination are the most difficult antitrust policy to defend, as such restrictions are blatantly protectionist of competitor groups, often at the expense of other more effective competitors and of the competitive process itself.
The Robinson-Patman Act, for instance, has often been interpreted to render illegal any price discrimination which harms a firm’s competitors; the act is an explicit attempt to protect such competitors from actual competition.
The possible defense under the Robinson-Patman Act of price discrimination as a “good-faith effort to meet the competition” does not suffice. The meaning and definition of such a “good-faith effort” is vague and indeterminate. Furthermore, in any real competitive process, firms seek to beat, not to meet the competition. This rivalrous behavior is precisely what brings about consumer benefits.
The second possible defense under the Robinson-Patman Act of price discrimination as validated by cost differences is difficult for firms to apply, because it is hard in practice to prove that cost differences exist – as the relevant costs in question are subjective evaluations of the future. Firm managers and entrepreneurs often cannot justify their understanding of costs in a court of law, especially if these costs are based on the entrepreneurs’ anticipation of future conditions. And yet the entrepreneurs may be correct in their judgments, as only the actual market process can eventually demonstrate.
The firms that have lost price discrimination cases in the past have often been forced to raise their prices as a result. This perverse outcome has clearly been deleterious to consumers and has stifled the competitive process.
The Borden Case (1958)
The Borden Dairy Company was sued by antitrust authorities for over nine years before the case was dismissed by the courts. Even though Borden was not found guilty of antitrust violations, the company still lost much in terms of time and legal expenses. Borden was charged of violating the Robinson-Patman Act because it sold its brand-name condensed milk to consumers at a higher price than it sold identical milk to other firms that would then re-sell the milk using their own brand names. Borden’s explanation for this practice was that consumers expected a certain quality from the Borden brand name, which Borden could guarantee for the milk that bore Borden’s brand, but not the milk that Borden sold to the resellers. Once Borden sold the milk to the resellers, it had no way to verify what the resellers did with the milk. Thus, Borden’s higher price for its brand-name products was supposed to indicate an assurance of quality on Borden’s part. Armentano holds that this practice should never have come under attack and that the fact that it did illustrates a perversity of antitrust laws.
Armentano further criticizes antitrust laws in their approach to voluntary tying agreements that restrict the behavior of firms. New economic understanding has increasingly come to doubt that tying agreements in any way hamper the operation of markets. After all, why would a manufacturer intentionally harm its own suppliers, resellers, and customers? Economists are finding increasing benefits of tying agreements both to consumers and to producers upstream and downstream the structure of production.
The Sylvania Case (1977)
The courts’ view of tying agreements has become more reasonable, beginning with the precedent established by the Sylvania case. Sylvania was a small TV producer that refused permission to Continental, one of its distributors, from establishing a new distributorship in Sacramento, CA, where Sylvania’s televisions would be sold. Sylvania’s justification for this refusal was that it did not wish to cannibalize sales of Sylvania’s televisions from Continental’s existing store in the vicinity. Sylvania also had a resale price maintenance agreement with Continental, as Sylvania sought to avoid price competition that it viewed as having the potential to make both Sylvania and retailers worse off. Continental sued Sylvania, but the courts upheld Sylvania’s practices, recognizing their possible benefits. This case repudiated the per se illegality of tying agreements and replaced it with a rule of reason approach.
Resale price maintenance often makes it possible to keep certain kinds of sellers in business – such as sellers that attempt to convey extensive product knowledge to consumers and focus on giving consumers the highest quality of product, rather than merely competing in price. By engaging in resale price maintenance agreements, such high-quality producers are able to remain on the market instead of being replaced entirely by wholesalers.
Vertical Merger Agreements
Armentano addresses the issue of foreclosure, the concern that after a vertical merger takes place, firms upstream in the structure of production (i.e., suppliers) may be unable to find retailers, whereas firms downstream in the structure of production (i.e., retailers) may be unable to find suppliers. For instance, if there exists only one tire manufacturer and Auto Company X merges with it, then the tire market might be foreclosed to all the other car manufacturers.
Armentano notes that the possibility of foreclosure rests on the idea that there exists a great amount of market power in at least one of the merging firms. If there are many sellers in each market, foreclosure is not a problem. Furthermore, when vertical mergers lead to foreclosure, it is not due to market power but superior efficiency. Merged firms may be able to have lower transaction and negotiation costs and to remove uncertainty with respect to their supply of certain products.
According to Armentano, the single worst case in antitrust history, the Brown Shoe Case of 1962, illustrates the absurdities of antitrust policy’s approach toward vertical mergers. Brown Shoe Company and Kinney Shoe Company were both shoe manufacturers and shoe retailers. Courts blocked the two companies’ proposed merger because of the fear that the vertical merger between them would foreclose the retail outlets to other producers of shoes. Even though the combined market share of Brown and Kinney was insubstantial, the courts used the absurd incipiency precedent argument to justify disallowing the merger. That is, the courts sought to cut off an alleged “incipient form of market power,” i.e., the possible foreclosure, and to disallow even a vertical merger with very little resultant market power so as to cut off the possibility of future market power. With antitrust laws still on the books, the incipiency precedent could be resurrected at any time to wreak tremendous damage.
Pongracic, Ivan. Second Lecture on Armentano’s Antitrust: The Case for Repeal. Hillsdale College. Hillsdale, MI. December 4, 2007.
All lecture material is used with explicit permission.